NATIONAL BUREAU OF ECONOMIC RESEARCH
NATIONAL BUREAU OF ECONOMIC RESEARCH

Long-Term Care Insurance and Nursing Home Use

"Although they are more likely to buy insurance, ... cautious individuals are actually less likely to use a nursing home."

People who have private long-term care insurance are no more likely to enter a nursing home than people without this insurance, according to NBER researchers Amy Finkelstein and Kathleen McGarry. On the surface, this finding is surprising. One might think that individuals who know that they have a high risk of using a nursing home would be more eager to buy insurance against this risk. Similarly, once they have insurance to cover the costs of a nursing home, they might be more likely to use it than if they had to pay these costs out of their own pocket. At least this is what economists would expect, based on what they have found in related markets, such as health insurance for individuals under age 65, or health insurance to supplement the public Medicare coverage for individuals over age 65. In Private Information and its Effect on Market Equilibrium: New Evidence from the Long-Term Care Insurance Market (NBER Working Paper No. 9957), the authors explore why individuals with long-term care insurance have similar nursing home use to the general population.

The long-term care market is particularly interesting because, although many elderly face the possibility of substantial out-of-pocket expenditures, most choose not to purchase private insurance. In the year 2000, expenditures for long-term care totaled approximately $100 billion (or 7.5 percent of all health expenditures for all ages). Expenditures are projected to triple in real terms over the next 40 years as the baby boomers age and medical costs rise. Yet very little of this long-term care expenditure risk is insured; 40 percent of long-term care costs were paid for out of pocket in 2000, compared to only 17 percent of overall health expenditures. The authors estimate that only about 10 percent of the elderly have private long-term care insurance.

Using public-use micro data from the Asset and Health Dynamics (AHEAD) cohort of the Health and Retirement Study, Finkelstein and McGarry find that there are two types of elderly individuals who purchase private long-term care insurance: individuals who assess themselves as more likely to use a nursing home than the insurance industry would think they are, and individuals who are more cautious than the general population. The first group does in fact have above-average nursing home use, while the second group has below average nursing home use. Because both high risk and cautious (but low risk) individuals purchase long-term care insurance, the insured population on average has the same risk profile as the population as a whole.

The authors draw on an innovative question in the AHEAD survey that asks the elderly respondents to report their self-assessed chance of entering a nursing home in the next five years. They compare that individual's assessment to what an industry actuarial model would predict for the same individual based on age, gender, limitations to activities of daily living, and cognitive function. They find that individuals who think that they are more likely to go into a nursing home than the insurance companies expect are more likely to buy long-term care insurance; these individuals also are more likely to go into a nursing home than individuals who appear the same to insurance companies but do not purchase insurance. This suggests that the problem of what economists call "asymmetric information" - that individuals have private information that the insurance company does not have - exists in the private long-term care insurance market.

However, Finkelstein and McGarry find that a second group of individuals is also more likely to purchase insurance than the general population. These individuals appear to be more cautious, as measured by their use of preventive medical services, such as flu shots and cholesterol exams; although they are more likely to buy insurance, these cautious individuals are actually less likely to use a nursing home. Health economists refer to such individuals as the "worried well."


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